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Paradigm Shift : The Cause Of The Financial Crisis
Paradigm Shift : The Cause Of The Financial Crisis
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Paradigm Shift : The Cause Of The Financial Crisis

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The False Premise Of Effortless Prosperity...the true cause of the financial crisis.

The False Premise Of Effortless Prosperity...the true cause of the financial crisis.

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  • 1. Paradigm Shift The false premise of effortless prosperity Paradigm Shift;    1. the term first coined by Thomas Kuhn in his influential book The Structure of  Scientific Revolutions (1962) to describe a change in basic assumptions within the  ruling theory of science. It is in contrast to his idea of normal science.    2. A complete change in thinking or belief systems that allows the creation of a new  condition previously thought impossible or unacceptable      Contrary to recent published thinking, the financial crisis was not an unpredictable ‘black  swan’ event, nor was it solely the result of a collapse in the housing market, or solely to  be blamed on the global imbalance between China and the US or on greedy bankers.      Instead,  the  financial  crisis  was  caused  by  a  sustained  period  of  debt  financed  consumption, made possible by the belief in the ‘paradigm shift’ that through economic  policy  and  financial  market  innovation,  we  had  created  an  economic  model  that  would  create  effortless  prosperity  and  growth,  whilst  enjoying  a  prolonged  period  of  low  interest  rates.  Under  Alan  Greenspan  this  was  known  as  the  ‘Goldilocks  economy’,  Gordon Brown called it the ‘end of boom and bust’.      This premise was false.                                1   
  • 2.   STRICTLY PRIVATE & CONFIDENTIAL   The financial crisis was caused by unsustainable debt financed consumption...      2.7 Total US Consumer Credit Debt ($ Trl) 2000‐2010 15 Total US Mortgage Debt ($ Trl) 2000‐2010  Source: Federal Reserve  14 Source: Federal Reserve  2.5 13 2.3 12 11 2.1 10 1.9 9 8 1.7 7 1.5 6 2010‐6 2000‐12 2001‐12 2002‐12 2003‐12 2004‐12 2005‐12 2006‐12 2007‐12 2008‐12 2009‐12 2000‐12 2001‐12 2002‐12 2003‐12 2004‐12 2005‐12 2006‐12 2007‐12 2008‐12 2009‐12       ...built on low interest rates and transfer of counter‐party risk of borrowers by lenders...        Fed Funds Rate (%) 2000‐2008  US Asset Backed Issuance 2000‐2008 ($ml)  7.0% Source: Federal Reserve  Source: SIFMA  800,000 6.0% 5.0% 600,000 4.0% 3.0% 400,000 2.0% 200,000 1.0% 0.0% 0 2000‐12 2001‐12 2002‐12 2003‐12 2004‐12 2005‐12 2006‐12 2007‐12 2008‐12 2000‐12 2001‐12 2002‐12 2003‐12 2004‐12 2005‐12 2006‐12 2007‐12 2008‐12 2009‐12       ...when interest rates rose, borrowers defaulted and loan losses soared...      10 All Bank Loan Delinquency Rate (%) 2000‐2009 8 Source: Federal Reserve  6 4 2 0 2000‐12 2001‐12 2002‐12 2003‐12 2004‐12 2005‐12 2006‐12 2007‐12 2008‐12 2009‐12       ...Households  were  left  historically  over‐leveraged  relative  to  incomes  and  governments  forced into recapitalising the banks.     The ‘paradigm shift’ in thinking, that financial market innovation and economic policy we  believed created effortless prosperity and growth with low interest rates, was false.     2   

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